What is an Oscillator?
An oscillator is a technical analysis tool that constructs high and low bands between two extreme values, and then builds a trend indicator that fluctuates within these bounds. Traders use the trend indicator to discover short-term overbought or oversold conditions. When the value of the oscillator approaches the upper extreme value, technical analysts interpret that information to mean that the asset is overbought, and as it approaches the lower extreme, technicians consider the asset to be oversold.
How Oscillators Work
Oscillators are typically used in conjunction with other technical analysis indicators to make trading decisions. Analysts find oscillators most advantageous when they cannot find a clear trend in a company's stock price easily, for example when a stock trade horizontally or sideways. The most common oscillators are the stochastic oscillator, relative strength, rate of change, and money flow. In technical analysis, investors find oscillators to be one of the most important technical tools to understand, but there are also other technical tools that analysts find helpful in enhancing their trading, such as chart reading skills and technical indicators.
If an investor uses an oscillator, they first pick two values; then, placing the tool between the two, the oscillator oscillates, creating a trend indicator. Investors then use the trend indicator to read current market conditions for that particular asset. When the investor sees that the oscillator moves toward the higher value, the investor reads the asset as overbought. In the opposite scenario, when the oscillator trends towards the lower value, the investors consider the asset oversold.
Mechanics of an Oscillator
In technical analysis, an investor measures oscillator on a percentage scale from 0 to 100, where the closing price is relative to the total price range for a specified number of bars in a given bar chart. In order to achieve this, one deploys various techniques of manipulating and smoothing out multiple moving averages. When the market trades in a specific range, the oscillator follows the price fluctuations and indicates an overbought condition when it exceeds 70 to 80% of the specified total price range, signifying a sell opportunity. An oversold condition exists when the oscillator falls below 30 to 20%, which signifies a buy opportunity.
The signals remain valid as long as the price of the underlying security remains in the established range. However, when a price breakout occurs, the signals may be misleading. Analysts consider a price breakout either the resetting of the range by which the current sideways market is bound or the beginning of a new trend. During the price breakout, the oscillator may remain in the overbought or oversold range for an extended period of time.
Technical analysts consider oscillators better suited for sideways markets and consider them more effective when used in conjunction with a technical indicator that identifies the market as being in a trend or range-bound. For example, a moving average crossover indicator can be used to determine if a market is, or is not, in a trend. Once the analysts determine that the market is not in a trend, the signals of an oscillator become much more useful and effective.
What is Awesome Oscillator?
Awesome Oscillator is developed by famous technical analyst and charting enthusiast Bill Williams. Awesome Oscillator is an indicator that is a non-limiting oscillator, providing insight into the weakness or the strength of a stock. The Awesome Oscillator is used to measure market momentum and to affirm trends or to anticipate possible reversals. It does this by effectively comparing the recent market momentum, with the general momentum over a wider frame of reference.
The Awesome Oscillator is useful for technical analysis because it takes more standard momentum oscillators and adjusts the calculation in order to strengthen a common weakness among them. However, it really becomes most effective when confirming signals or conditions is identified by additional technical analysis.
Construction of Awesome Oscillator
Understanding the underlying formula used for the construction of Awesome Oscillator helps traders take prudent decisions while trading in complex scenarios. Calculating the indicator is no longer required as charting platforms and trading software do it for us.
However, knowing how the indicator is calculated will help one better understand the indicator and its strengths and weaknesses. Awesome Oscillator indicator is calculated using the following formula:
Working of Awesome Oscillator
Awesome Oscillator is a histogram consisting of slopes turning from red to green and vice versa. Because of its nature as an oscillator, the Awesome Oscillator is designed to have values that fluctuate above and below a Zero Line. The generated values are plotted as a histogram of red and green bars. A bar is green when its value is higher than the previous bar. A red bar indicates that a bar is lower than the previous bar. When AO's values are above the Zero Line, this indicates that the short-term period is trending higher than the long-term period. When AO's values are below the Zero Line, the short-term period is trending lower than the longer-term period. This information can be used for a variety of signals. The common values used are five periods for the fast and 34 periods for the slow. As the entry signal, we will take the moment when the histogram’s slopes cross the zero level and change colour according to the trade rules.
The basic principles are the same as with other histograms. The cross of the zero level up indicated the upcoming trend and the cross of the zero levels down, the possible reversal to the downtrend.
Like all technical indicators, it is important to use the AO in conjunction with other technical analysis tools.
Trading Technique:
Twin Peaks
Twin Peaks is a method which considers the differences between two peaks on the same side of the Zero Line. A Bullish Twin Peaks setup occurs when there are two peaks below the Zero Line. The second peak is higher than the first peak and followed by a green bar. Also, very importantly, the trough between the two peaks must remain below the Zero Line the entire time. This is a basic strategy, which looks for a double bottom in the awesome oscillator. This trading technique is much alike trading bullish divergence on histogram below Zero Line.
Bullish Twin Peaks Conditions
The awesome oscillator is below 0 There are two swing lows of the awesome oscillator, and the second low is higher than the first
The histogram after the second low is green
Bearish Twin Peaks Conditions
The awesome oscillator is above 0• There are two swing highs of the awesome oscillator, and the second high is lower than the first
The histogram after the second peak is red
Crossing Zero Line
When AO crosses above the Zero Line, the short-term momentum is now rising faster than the long-term momentum. This can present a bullish buying opportunity.
When AO crosses below the Zero Line, the short-term momentum is now falling faster than the long-term momentum. This can present a bearish selling opportunity.
Saucer Strategy
The saucer strategy received its name because it resembles that of a saucer. The setup consists of three histograms for both long and short entries.
Long Setup Conditions
Awesome Oscillator is above 0 There are two consecutive red histograms• The second red histogram is shorter than the first• The third histogram is green
A trader buys the fourth candlestick on the open
Short Setup Conditions
Awesome Oscillator is below 0. There are two consecutive green histograms. The second green histogram is shorter than the first• The third histogram is red
Trader shorts the fourth candlestick on the open
Conclusion
Awesome Oscillators can be useful by applying three trading strategies Twin Peaks, Saucer and Zero Line crossing for buying and selling stocks or any financial instruments. All in all, The Awesome Oscillator can be a fairly valuable tool. momentum is one of those aspects of the market that is crucial to understanding price movements, yet it is so hard to get a solid grip on. AO (momentum) can be used in some instances to generate quality signals but much like with any signal generating indicator, it should be used with caution. Truly understanding the setups and avoiding false signals is something that the best traders learn through experience over time. That being said, the Awesome Indicator produces quality information and maybe a valuable technical analysis tool for many analysts or traders.
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